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Indications in world economy herald big changes

Author  :  YU CHUNHAI     Source  :    Chinese Social Sciences Today     2019-03-07

Flags of the OECD member countries Photo: FILE

In 2018, the world economy continued to grow as in the previous year, but countries grew at notably different rates from 2017. All signs indicate that the growth supported by demand management policy has peaked, heralding big changes. Countries around the world are engaging not only in short-term competition for advantages in the globalization process but in long-term technological and industrial competition and rivalry over international trade and investment rules.

Growth divide

The International Monetary Fund and the Organization for Economic Cooperation and Development (OECD) projected global growth at approximately 3.7 percent in 2018. It is a hard-earned achievement given tightening financial conditions worldwide, risks and adjustments to asset prices arising from those conditions, policy uncertainties as a result of escalating trade friction, geopolitical conflict between Europe and the Middle East, and financial turmoil in some emerging markets.

However, a divide appeared in the macroeconomic landscape of major developed economies. The growth of the US economy remained robust, while that of Japan, the Eurozone, the UK and even the entire OECD dropped markedly, which stands in contrast with the extensive and simultaneous recovery in 2017. 

The divide led to different monetary policies in the developed economies. On Dec. 19, 2018, the Federal Reserve boosted the funds rate by 25 basis points, the fourth interest rate hike in 2018. On Dec. 13, the European Central Bank announced the decision to leave the three benchmark interest rates unchanged. Although the asset buying program was terminated in late December as scheduled, it promised to keep favorable liquidity conditions and provide sufficient monetary support. On Dec. 20, the Bank of Japan decided to keep the benchmark interest rate steady and maintain its easing policy. On the same day, the Bank of England announced that it would leave the benchmark rate unchanged and keep the current asset purchase scale.

The economic performance and monetary policy of the US contrasted with those of major developed economies sharply, resulting in the continued appreciation of the dollar, tightening financing conditions in the international market, declining risk appetite, and dramatic changes in asset prices, alongside mounting financial risks. 

Some economically and financially fragile emerging economies faced growing pressure, as their credit standings and the quality of balance sheets downgraded and cross-border capital inflow reversed, inviting abrupt adjustments to asset prices and exchange rates. Such factors as debt problems, capital exodus, asset price adjustments and currency depreciation might add up to severe financial turbulence.

Rivalry for advanced manufacturing

During post-crisis recovery, major developed economies failed to fundamentally reverse the trend of falling labor productivity. In addition to population aging and a declining labor participation rate, the potential economic growth decreased. In 2018, the output gap of major developed economies narrowed evidently. The unemployment rate hit a record low in the US in the past 20 years and in the OECD at large in the past three decades. The unemployment gaps of the economies all turned from negative to positive, giving rise to labor shortages. All these suggest that the growth potential of major developed economies is almost exhausted.

For a long time to come, the overriding task for the economies is to boost their potential economic growth, particularly the growth of productivity. Productivity growth relies on technological advances and structural adjustments under given technologies. Historical experience shows that technological breakthroughs are usually made in the manufacturing sector, and the application and diffusion of new technologies also depends on equipment and tools provided by manufacturers. 

If there is no technological breakthrough, fostering and developing advanced manufacturing industries, which can leverage the current technological frontier, is still conducive to promoting productivity growth. In the Strategy for American Leadership in Advanced Manufacturing released by the White House in October 2018, advanced manufacturing is regarded essential to the country’s economic prosperity, national security and global status. Whether to increase the potential growth or raise the global status, countries around the world will pay more attention to competition for cutting-edge technologies, mostly for advanced manufacturing.

The change to the employment objective also increased competition in manufacturing. The employment objective of major developed economies changed from “creating more jobs” to “creating more high-quality jobs,” in an effort to resolve the social and political contradiction brought by widening income gaps and to facilitate human capital accumulation and innovation by stabilizing employment and improving incomes. Compared with the service industry, jobs in manufacturing, particularly advanced manufacturing, are more stable and higher-paid.

The competition for advanced manufacturing will prompt shifts in policy priority. The Strategy for American Leadership in Advanced Manufacturing stresses “domestic supply chain,” “buy American,” “fair trade” and the like, all structural and interior-oriented. Spillover effects from the development of advanced manufacturing on other sectors are dependent on the domestic extension of manufacturing supply chains. Therefore, countries of the world are paying growing attention to building domestic manufacturing supply chains and gradually shifting from short-term macroeconomic policy centered on demand management to mid- and long-term policy with structural adjustments at the core. 

Complicating policy friction

Due to a lack of groundbreaking technological innovation, global industrial chains have almost stopped extending and upgrading, thus intensifying the competition for advantages in the globalization process and resulting in policy friction.

It is foreseeable that the competition strategies of large economies will increasingly go beyond the realm of trade, especially the US, which is at an advantage on the economic, financial, technological, political and military fronts. 

The Trump administration incorporated economic security into the scope of national security and put forward a trade policy that uses all means to help American enterprises and individuals to engage in global competition. In other words, the US government will never confine its policy means to the traditional economy and trade field.

Through legislative reform, institutional restructuring, and export control list adjustments, the US is heightening scrutiny of foreign investments and strengthening technological blockades of other countries. 

The current multilateral trade and investment system has been inadequate in coordinating short-term trade interests and policy options of countries around the world, let alone aligning their long-term strategic interests and policy choices. In this context, more and more economies have turned to regional and transregional trade and investment agreements, striving to build new international rules on the regional level.

As existing rules become outdated, it is inevitable that the dispute settlement mechanism will fail, which underscores the importance and urgency of reforming the multilateral trade and investment system. 

However, it is highly difficult to agree upon a new system given countries’ varying requirements, so the dispute over international trade and investment rules will last for a long time. International rules serve not only to regulate market behaviors, but more importantly to alter the comparative advantage of each country based on their endowment and to profoundly impact the eventual distribution among interests.

In the short run, international rules have a bearing on whether a country can fully benefit from an existing competitive edge. And in the long term, they decide whether its competitive edge can persist and whether new competitive advantages will be fostered. Therefore, international competition is not only market competition between micro entities, but also competition between governments during the formulation of international rules. 

The rivalry over international rules will complicate and prolong trade friction and conflict. Old rules are much less effective and new rules are absent, so trade protectionism lacks effective restrictions from multilateral institutions. Furthermore, protectionist policy has become an instrument and chip for some countries to fight for dominance over international rules.

In 2018, the Chinese economy managed to grow by 6.6 percent despite the complicated and grim international environment and unavoidable difficulties in domestic supply-side structural reform. It grew fastest among the world’s top five economies and was the largest source of power driving world economic growth.

Looking ahead, the external environment facing the Chinese economy will hardly improve in the short term. First, declining global growth will contain the growth momentum of foreign demand for the Chinese economy. Moreover, the competition among countries for advantages in the globalization process, technology, advanced manufacturing and discourse power in global rules will increase international policy friction and uncertainties. 

 

Yu Chunhai is a professor of economics and a research fellow from the National Academy of Development and Strategy at Renmin University of China.

 

 

(Edited by CHEN MIRONG)

Editor: Yu Hui

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